Fund investors are looking abroad for dividends

NEW YORK -- In the search for dividends, it can pay for investors to head abroad.

Markets outside the United States have long been fertile ground for dividend hunters because their stronger cultures of paying dividends have resulted in higher yields. U.S. companies have boosted their own dividends and paid a record amount last year, but many mutual-fund managers say the most attractive dividend stocks are still outside the country. Investors also are showing a preference for foreign dividend payers: That's where they're putting more of their money.

"The U.S. is an actively hostile dividend market and has been for years," says Daniel Peris, senior portfolio manager at Federated Investors. He helps run the Federated International Strategic Value Dividend fund (IVFAX), among others.

In the U.S., companies often use their cash to buy back stock instead of paying dividends. But in other developed markets, Peris says there's a strong assumption that companies will pay out much or most of their earnings to shareholders as dividends.

Consider HSBC Holdings, the largest company by market value in the United Kingdom. The financial giant paid out 58 percent of its earnings per share last year in the form of dividends. In the U.S., companies in the Standard & Poor's 500 index paid about 35 percent of their earnings as dividends. That's more than they paid just a few years ago, but it's down from earlier decades.

The yields are also higher abroad. U.K. stocks have an average dividend yield of 3.3 percent, and stocks in Europe outside the U.K. offer 3.1 percent, according to MSCI indexes. Stocks from emerging markets, such as Brazil and China, pay 2.7 percent. All are ahead of the 2 percent yield of U.S. stocks.

Interest in dividends has climbed after they helped to stem losses during the "lost decade" of 2000-09 for stocks. The S&P 500 fell 24.1 percent after the dot-com bust and financial crisis swamped markets in succession. But after including dividends, the decade's loss was a less distasteful 9.1 percent. Besides potentially smoothing out the ride of stock investing, dividend payers can also supply income to investors contending with relatively low interest rates on bonds.

Perhaps most importantly, companies that pay dividends force themselves to be more disciplined in how they spend money, which can lead to better performance, says David Ruff. He is a portfolio manager at Forward Management and helps run Forward Select Emerging Markets Dividend (FSLRX) and other dividend funds.

When a company has to budget for its dividend, its managers are less likely to waste money on an ill-fitting acquisition or expansion. And companies typically fight to maintain their dividend even when times are tight for fear of an investor backlash. That's why Ruff sees a company's promise to pay a dividend as a signal of discipline, and he says he generally sees better signals for dividend stocks abroad than at home.

Investors plugged a net $6 billion into foreign large-cap value stock mutual funds through the first four months of the year, according to Morningstar. Such funds tend to focus on dividend-paying stocks, and their U.S. counterparts attracted a smaller $4.5 billion over the same time even though they're a bigger category by assets.

To be sure, foreign stocks present their own set of risks. Emerging-market stocks in particular can gyrate sharply. Other considerations that investors should be aware of include:

• Irregular Schedule

In the U.S., investors have become accustomed to companies paying out steady dividends every three months. Abroad, the payment schedule isn't uniform. Some companies pay twice a year, others four. And the amounts may vary.

Nestle, for example, is the biggest non-U.S. company in the MSCI High Dividend Yield index. The Swiss-based company pays a dividend once a year, about a week after its annual general meeting. This year, it was paid on April 10.

Like Nestle, many European companies pay much or most of their dividends during the second quarter, from April through June.

HSBC meanwhile pays four dividends a year, but the amount varies. The first three quarterly payments are the same, but the fourth can swing depending on the company's earnings. For 2013, HSBC paid an annual dividend of 49 cents per share. The first three payments were 10 cents, and the final one was 19 cents.

• Currency Risk

One of the main risks of foreign investing is that swings in currency values can quickly erode any potential profit.

If a stock's price rises on the London Stock Exchange, for example, but the British pound falls in value against the dollar, it could negate the gain for a U.S. investor. The value of dividend payments can also take a hit.

Last quarter, for example, Japanese companies paid the equivalent of $2 billion in dividends, according to Henderson Global Investors. That's down 21 percent from the first quarter of 2013, but half of that decline was due to the falling value of the Japanese yen.

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